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# Direct Labor Efficiency Variance:

## Definition and Explanation:

Labor efficiency variance is calculated by comparing the actual hours worked with standard hours allowed, both at the standard labor rate. The standard hours allowed figure is determined by multiplying direct labor hours established or predetermined to produce a single unit by the number of units produced. For example, if standard time to produce one unit of a product is 2 hours and 10 units of product have been manufactured during the period than the standard time allows would be 20 hours (2 × 10). The units produced are the equivalent units of production for the labor cost being analyzed. Labor efficiency variance is also known as labor time variance and labor usage variance.

## Formula:

Following formula is used to calculate labor efficiency variance.

 Labor efficiency variance = (Actual hours worked × Standard rate) - (Standard hours allowed × Standard rate)

## Example:

Assume that 1,880 hours are worked at a rate of \$6.50 per hour to produce 530 equivalent units of product. The standard labor rate per hour is \$6.00 and standard time allowed to produce a unit of product is 3 hours.

Required: Calculate direct labor efficiency variance.

### Solution:

 Time × Rate = Amount Actual hours worked at standard rate 1,880 \$6.00 standard \$11,280 Standard hours allowed at standard rate 1,590 \$6.00 standard 9,540 290 \$1,740 unfav.

The standard hours allowed is the result of multiplying 530 units of product by 3 standard hours per unit. The unfavorable labor efficiency variance of \$1,740 is due to the use of 290 hours in excess of standard hours allowed.

## Causes of Unfavorable Labor Efficiency/Usage Variance:

Possible causes of an unfavorable efficiency variance include poorly trained workers, poor quality materials, faulty equipment, and poor supervision. Another important reason of an unfavorable labor efficiency variance may be insufficient demand for company's products.

## Who is Responsible for the Labor Efficiency/Usage Variance?

The manager in charge of production is generally considered responsible for labor efficiency variance. However, purchase manager could be held responsible if the acquisition of poor materials resulted in excessive labor processing time.

If customers orders are insufficient to keep the workers busy, the work center manager has two options, either accept an unfavorable labor efficiency variance or build up inventories. The second option is opposite to the basic principle of just in time (JIT). Inventories with no immediate prospect of sale is a bad idea according to just in time approach. Inventories, particularly work in process inventory leads to high defect rate, obsolete goods, and generally inefficient operations.  As a consequence, when the work force is basically fixed in the short term, managers must be cautious about how labor efficiency variances are used. Some managers advocate dispensing with labor efficiency variance entirely in such situations―at least for the purpose of motivating and controlling workers on the shop floor.

## Relevant Articles:

 » Definition and Explanation of Standard Cost » Purposes and Advantages of Standard Costing System » Setting Standards » Materials Price Standard » Materials Price Variance » Materials Quantity Standard » Materials Quantity Variance » Direct Labor Rate Standard » Direct Labor Rate Variance » Direct Labor Efficiency Standard » Direct Labor Efficiency Variance » Factory Overhead Cost Standards » Overall or Net Factory Overhead Variance » Overhead Controllable Variance » Overhead Volume Variance » Overhead Spending Variance » Overhead Idle Capacity Variance » Overhead Efficiency Variance » Variable Overhead Efficiency Variance » Fixed Overhead Efficiency Variance » Mix and Yield Variance » Variance Analysis Example » Standard Costing and Variance Analysis Formulas » Management by Exception and Variance Analysis » International Uses of Standard Costing System » Advantages, Disadvantages, and Limitations of Standard Costing

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